Sustainability-linked bonds get lift as Novartis follows Suzano

5 min read
EMEA
Ed Clark

Novartis became the second corporate in a week to issue a sustainability-linked bond, though the product continues to draw criticism from some investors who question its efficacy in improving ESG standards.

The Swiss pharmaceutical company printed a €1.85bn eight-year sustainability-linked bond, also known as a KPI-linked bond, on Wednesday.

It followed a US$750m 10-year SLB from Brazilian pulp and paper company Suzano last Thursday. They are first two such bonds issued since the format was debuted by Italian power producer Enel in both the US dollar and euro markets a year ago.

"Investors were clearly interested in this deal, looking at the book, and certainly the structure itself attracted attention," said a banker.

Novartis attracted €3.75bn of orders, which enabled leads to revise pricing to 40bp over swaps from IPTs of 55bp area.

That final level, though, still meant that Novartis paid a spread over its conventional September 2028s, which were bid at 25bp before the new issue's announcement.

While some argued that fair value is hard to define given the new structure, there clearly was a premium.

In contrast, issuers in other ESG formats, such as green or social bonds, have priced inside their conventional curves. VW, for example, priced a debut green bond offering of €2bn some 15bp inside fair value on Wednesday.

As with the Suzano and Enel trades, Novartis will pay a 25bp coupon step-up if it fails to hit the key targets incorporated in the deal's structure.

Some feel that the coupon step-up structure hinders rather than helps the product's development.

"It adds another layer of complexity," said a second banker, pointing out that building a sustainability-linked bond curve will not be easy given that an issuer's performance targets will have to continually change.

Another problem for treasurers - for those corporates based in the eurozone at least - is that bonds with coupon step-ups are not ECB eligible.

Some investors are also unsure of the product's benefits, especially compared with green bonds, where the proceeds are deployed for a specific project.

"SLBs are, in our view, an instrument for a company to emphasise and finance its sustainability efforts, but we believe green bonds are the most powerful tool for a company to show its progress towards sustainability," said Bram Bos, lead portfolio manager at NN Investment Partners.

The transparency around use of proceeds of an SLB is not particularly clear and ultimately there is no assurance that the proceeds with have a positive ESG impact, he said.

"In addition to providing transparency around the use of proceeds, we also expect green bond issuers to align the issuance with the company’ general strategy and thus its strategy KPIs too," said Bos.

However, others argue that this type of security has the potential to improve the ESG profiles of businesses that would struggle to issue debt with a clear green use of proceeds.

"The amount of, say green, assets [eligible for funding] that most issuers have is small. The amount of funding they have to do is quantums bigger and to be able to align that with ESG goals is clearly a tool to improve a business," said a third banker.

"Will a green investor be annoyed that they can't buy it? Yes. Will a sustainable or normal investor be glad because it is ultimately having some impact? Of course."

CLEAR PERFORMANCE MEASURES

The structure, if done right, with sufficiently challenging KPI targets, can be a clear way to align a company's funding strategy with its overall corporate strategy.

"The definition of the KPIs must be very clear and absolutely undebatable. That means in practice it should be relatively simple and straightforward, not some complex CO2 emissions calculator," said a fourth banker.

The two targets which Novartis's step-up hinges on are that by 2025 it increases key "innovative therapies patient reach" by 200% and its "flagship programmes" reach by 50%.

The Novartis flagship programmes target diseases that particularly affect low to middle-income countries, such as leprosy, malaria, Chagas disease and sickle cell disease.

The patient reach of a particular therapy is being measured by the company as the annual product sales volume divided by the volume per patient.

But in other respects Novartis has hit the headlines for the wrong reasons in recent months.

In June, the US Department of Justice said that Novartis and a former eye-care unit will pay more than US$346m to resolve US criminal and civil charges that they bribed doctors, hospitals and clinics in Greece and Vietnam to prescribe their drugs and use their surgical products.